How Far Can Venezuela’s Oil Production Fall

Venezuela’s oil production continues to plummet, and some of the dire production scenarios for the South American nation are no longer looking as remote as they once were.

OPEC compliance remained elevated in January, halting a slide in oil prices even as new data reveals soaring production growth from U.S. shale. OPEC compliance hit 138 percent in January, essentially the same as December. Nigeria and Saudi Arabia actually raised their oil production levels in January from a month earlier. But the reason that OPEC was able to avoid a slide in its compliance rate is that Venezuela continues to see its production base erode at a rapid clip.

The reasons for the decline are the same as they have been for quite a while: an economic crisis that is only worsening, no cash for investment or even maintenance, a debt crisis, U.S. sanctions, the politicization of PDVSA and a brain drain from the company. “Unfortunately, these factors are not going away, which means Venezuela’s output and political situation will likely remain in a downward spiral during 2018,” Barclays analysts wrote in a research note.

The investment bank predicts that Venezuela’s oil production will average 1.43 million barrels per day (mb/d) in 2018, a shocking decline of roughly 700,000 bpd from the 2017 average. In the second half of 2018, output averages just 1.35 mb/d.

The situation is compounded by a spiraling debt crisis. For years, Venezuela and PDVSA have prioritized meeting bond payments pretty much above all else, even a worsening humanitarian crisis playing out in the streets. People go hungry, want for basic items, and die in hospitals that lack medicine. Yet creditors continued to be paid, at least up until a few months ago. The fear has been that once PDVSA defaults on major bond payments, creditors could go after oil assets around the world that would make the situation much worse for the country. Related: Three Factors That Could End The Oil Rally

As such, Venezuela could try to continue to pay creditors what it can. The problem, however, is that the government is fighting on too many fronts. Because it has no cash to even fund the most basic maintenance at its oil fields and refineries, production is now in steep decline. That will make its cash situation even worse with each passing day, which in turn will make meeting debt payments more difficult. “[I]f production continues to fall at the recent accelerated pace, the government’s runway to pay upcoming obligations will be severely shortened,” Barclays analysts wrote.

The only way the situation can be reversed, Barclays says, is a change of government. “We believe sustainably growing output would likely require a combination of the following: a regime change, FX reforms, adjustments to fiscal terms, changes to PDVSA’s equity mandate, and higher oil prices,” Barclays wrote. That is a serious set of circumstances that is unlikely to play out anytime soon. So, the declines continue.

Still, while the situation for Venezuela’s oil industry is dreadful, much of the declines that Barclays is forecasting have already happened. The bank’s headline figure of a loss of 700,000 bpd from Venezuela this year is based on the 2017 average (2.18 mb/d), not what the country produced at the end of the year (around 1.6-1.75 mb/d). In other words, if Venezuela can exit 2018 at about 1.35 mb/d or a little below, the 2018 losses, at least in the global context, wouldn’t be that massive.

On the other hand, Barclays noted that there is some downside risk to even this dire forecast. There is a “possibility of a sharper decline due to the creditors’ decision to attach assets, accelerated debt payments, or a further escalation of political tensions,” the bank said. “In the event of a sudden, significant supply disruption (1-1.5 mb/d), we would expect prices to rally 5–10 percent over the near term, though a sustained outage could strengthen prices further.” However, any sudden loss of such a great magnitude would likely prompt higher production from OPEC in order to prevent a painful price spike.

No matter how you slice it, Venezuela’s oil production is heading south. The uncertainty is around how bad it will be.